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Can Lower-Margin Stocks Be Growth Stocks?

Original post by Michael Wolfe of Demand Media

Growth stocks are the high draft picks of the investment world. A growth stock is defined as a company that is expected to have earnings that are greater than the market at large. Generally, the term is applied to companies that are relatively new and that have not yet reached a point in which their rate of expansion will slow, like some older, more established companies. A company that has a low profit margin can indeed be a growth stock, although it won't always be.

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Growth Stock

A company can be defined as a growth stock by investors if the company is expected to have relatively high earnings in the near future. In addition, many growth-stock companies are relatively new and are not giving out dividends because they are instead reinvesting revenues back into their business as a means of growing it. The term "growth stock" is relatively subjective in its definition and to which companies it applies.

Low-Margin Companies

Lower-margin companies are companies that are marked by relatively low profit margins. A profit margin is the ratio of profit to total revenues that the company takes. For example, a company that turned a profit of $1 for every $10 of revenue would be said to have a 10 percent profit margin. Lower-margin companies can be reliable, but many are also just eking out a profit, making them a risk.

Can a Growth Stock Have Lower Margins?

A growth stock can be characterized by huge profit margins, signaling explosive growth and high demand. However, not all growth stocks post high profit margins. In fact, many growth stocks may grow consistently, but, due to their business model or their sector, continue to post relatively low profit margins. In addition, a growth company may post a low profit margin to begin with and then post higher profit margins when it eventually expands.

Considerations

Although a lower-stock can indeed be a growth stock, having a low margin in no way means that a stock is definitely on the grow. Many companies, small and large, have consistently low margins -- for example, most supermarket chains have extremely low margins -- but are not expected to grow very much in the near term, meaning that they are not growth stocks.

References

"Investing For Dummies"; Eric Tyson; 2008

About the Author

Michael Wolfe has been writing and editing since 2005, with a background including both business and creative writing. He has worked as a reporter for a community newspaper in New York City and a federal policy newsletter in Washington, D.C. Wolfe holds a B.A. in art history and is a resident of Brooklyn, N.Y.